This  pamphlet  is  intended  merely  for  circulation  among 
railroad  counsel  and  traffic  managers.  It  originally  took  the 
form  of  a letter  dictated  to  several  traffic  men  for  the  purpose 
of  getting  their  ideas  of  the  principles  which  govern  the  fix- 
ing of  freight  rates.  The  form  has  been  changed  from  a 
letter  to  a pamphlet  in  order  that  the  difficulties  might  be 
stated  more  fully,  but  the  purpose  remains  the  same,  namely, 
to  secure  information,  suggestions  and  criticisms. 

EDGAR  J.  RICH, 
Attorney  Boston  <&-  Maine  Railroad . 

North  Station,  Boston,  October,  1903. 


CERTAIN  PROBLEMS  RELATING  TO  RAILROAD 

RATES. 


By  Edgar  J.  Rich,  Attorney , Boston  & Maine  Railroad. 


Since  the  Supreme  Court  of  the  United  States  decided  in 
carefully  considered  opinions  that  the  Interstate  Commerce 
Commission  has  no  power  to  fix  the  rates  of  transportation  of 
passengers  and  freight,  there  has  been  considerable  agitation  by 
the  Commission,  and  in  the  press,  to  induce  Congress  to  give 
to  the  Commission  the  power  to  determine  rates.  The  Cullom 
Bill,  which  has  been  pending  in  two  congresses,  was  drawn  for 
this  purpose,  and  other  bills  with  the  same  object  in  view  have 
been  introduced.  The  strenuous  efforts  of  the  Commission  to 
secure  the  passage  of  some  such  law  have  aroused  on  the  part 
of  the  railroads  a keen  sense  of  the  results  which  would  follow 
the  placing  of  such  stupendous  power  in  the  hands  of  any  body 
of  men.  The  Commission  on  several  occasions  has  drawn  atten- 
tion to  the  fact  that,  whereas  formerly  competition  was  effective 
in  keeping  rates  within  reasonable  limits,  now,  the  elimination 
of  competition  through  numerous  consolidations,  and  the  effect- 
ing of  community  of  interests,  make  necessary  some  form  of 
governmental  control.  The  Commission  claims  that  these 
decisions  of  the  Supreme  Court  have  shorn  it  of  all  power,  and 
that  its  opinions  are  not  treated  with  respect  by  the  railroads. 

Powers  of  the  Interstate  Commerce  Commission. 

It  is  not  true,  however,  that  the  Commission  has  no  powers, 
for  in  addition  to  the  power  to  compel  publicity,  which  is  of 
great  importance,  it  has  the  power  to  declare  rates  unreasona- 
ble, and,  through  the  United  States  courts,  to  compel  the  rail- 
roads to  desist  from  charging  such  rates  as  are  found  by  the 
court  to  be  unreasonable.  In  other  words,  if  at  a trial  in  the 
United  States  Court,  the  court  is  of  opinion  that  the  Interstate 


Commerce  Commission  was  correct  in  declaring  certain  rates  to* 
be  unjust  and  unreasonable,  that  court  can  issue  a decree  coih- 
pelling  the  railroads  to  desist  from  charging  such  rates.  Thi^ 
is  a great  power  and  a salutary  one,  and  undoubtedly  is  everx 
present  in  the  mind  of  any  railroad  which  may  have  an  inclina- 
tion to  charge  all  that  the  traffic  will  bear.  The  Commission 
seeks  the  power  not  merely  to  declare  a rate  unreasonable,  but 
to  determine  what  is  reasonable.  It  may  be  conceded  that 
there  should  be  some  disinterested  body  which  should  have  the 
power  to  determine  whether  a rate  is  reasonable  or  not,  but  to 
give  to  that  body  power  to  fix  a rate  is  an  entirely  different 
matter. 

The  Commission,  furthermore,  has  power  to  prevent  unjust 
discrimination,  which  unquestionably  has  been  in  the  past  one 
of  the  great  evils  ; and  to  the  exercise  of  this  power  there  is  no 
limitation.  In  a word,  it  has  the  power  to  compel  the  railroads 
to  treat  all  persons  and  localities  equally,  with  due  allowance 
for  dissimilar  circumstances. 

Pending  Legislation  to  Increase  the  Powers  of  the 

Commission. 

There  are  now  pending  before  Congress,  several  bills  which 
have  for  their  object  increasing  the  powers  of  the  Commission. 
The  principal  changes  contemplated  are  the  following  : — 

(i.)  The  absolute  power  to  fix  rates  by  determining  what 
shall  be  the  maximum  and  minimum  rates,  and  as  a corollary  of 
this,  the  power  to  make  changes  in  classification. 

(2.)  The  power  to  determine  upon  what  terms  and  conditions 
business  shall  be  interchanged  between  connecting  carriers,  and 
also  to  determine  how  the  joint  rate  shall  be  divided. 

(3.)  Another  change  of  far-reaching  consequence  is  the  mod- 
ification proposed  in  the  long  and  short  haul  clause.  At  the 
present  time  carriers  are  justified  in  making  a lower  rate  for  the 
longer  distance  when  compelled  either  by  competition  of  water 
carriers  or  of  railroads.  Under  the  proposed  law  it  will  be 
impossible  for  railroads  to  charge  less  for  the  longer  distance 
unless  the  Commission  authorizes  it.  Such  a law  would  tend  to 


^ n \e- 

3 

deprive  railroads  of  a considerable  amount  of  traffic  wherever 
there  was  water  competition,  for  although  the  Commission 
might  authorize  a less  rate  if  convinced  that  railroads  would 
lose  traffic  in  consequence  of  such  competition,  nevertheless, 
the  railroads  would  never  be  able  to  know  whether  or  not  the 
Commission  would  regard  the  competition  as  a sufficient  justi- 
fication for  such  difference  in  rate. 

In  asking  for  the  rate-making  power,  the  Commission  is  seek- 
ing a power  which  affects  the  prosperity  of  our  country  in  a way 
which  can  hardly  be  grasped  ; but  more  than  that,  it  would  have 
a task  which  no  body  of  men,  however  able  and  fair-minded,  can 
perform.  Every  traffic  manager  in  the  country  has  his  powers 
taxed  to  the  utmost  to  solve  the  various  problems  which  arise  on 
the  comparatively  small  traffic  under  his  jurisdiction.  In  order 
to  solve  the  problems  correctly,  he  must  be  thoroughly  familiar 
with  local  conditions,  with  the  population  of  places  along  the 
line,  with  their  industries,  with  crops,  with  competition  by  water 
and  by  rail,  and  with  a hundred  and  one  things  which  must  go  to 
determine  what  ought  to  be  the  rate  on  a particular  commodity 
to  a particular  place.  If  you  should  select  the  five  most  experi- 
enced railroad  traffic  men  in  the  country,  and  give  to  them  a 
desire  to  serve,  equally  and  impartially,  the  public  and  the 
railroads,  they  nevertheless  could  not  solve  the  various  problems 
which  continually  arise,  as  well  as  could  the  men  on  the  spot. 
It  is  unfortunately  a fact,  in  many  instances,  that  the  local 
traffic  man  in  fixing  rates  fails  to  recognize  that  he  is  a quasi- 
public servant,  and  not  an  employee  of  a private  concern 
whose  primary  object  is  to  make  the  largest  possible  income. 
Traffic  men  must  be  educated  up  to  a point  where  they 
appreciate  the  public  functions  of  the  properties  entrusted  to 
their  charge.  If,  however,  these  men  have  a proper  appre- 
ciation of  these  responsibilities,  there  can  be  no  question  that 
the  traffic  manager  of  a railroad  is  in  an  infinitely  better  posi- 
tion to  determine  what  rates  should  be  charged  than  any  body 
of  men,  no  matter  how  able,  who  may  be  sitting  in  Washing- 
ton and  whose  opinion  must  be  formed  by  the  unsatisfactory 
method  of  listening  to  testimony.  Judge  Cooley,  when  Chair- 


\ 


4 

man  of  the  Interstate  Commerce  Commission,  spoke  of  this 
herculean  task  in  these  words  : 

“ In  those  sections  of  the  country  in  which  the  reasons,  or  sup- 
posed reasons,  for  exceptional  rates  are  most  prevalent,  the 
Commission  would,  in  effect,  be  required  to  act  as  rate  makers 
for  all  the  roads.  . . . This  in  any  considerable  state  would 
be  an  enormous  task.  In  a country  so  large  as  ours,  with  so 
vast  a mileage  of  roads,  it  would  be  superhuman.  A construc- 
tion of  the  law  which  would  require  the  performance  would  ren- 
der the  due  administration  of  the  law  altogether  impractical, 
and  that  fact  tends  strongly  to  show  that  such  a construction 
could  not  have  been  intended.” 

Walker  D.  Hines,  Esq.,  First  Vice-President  of  the  Louisville 
& Nashville  Railway  Company,  in  his  able  address  before  the 
American  Economic  Association,  at  Philadelphia,  on  December 
27,  1902,  very  cogently  stated  the  difficulties.  He  said  : 

“The  regulation  of  railroads  is  eminently  and  exclusively 
a practical  question,  because  no  business  is  more  severely  practi- 
cal or  more  intricably  interwoven  with  all  the  special  and 
peculiar  conditions  of  every  phase  of  the  commercial  and  indus- 
trial life  of  the  country.  The  practical  difficulties  incident  to 
the  construction  of  railroad  rates  cannot  be  overestimated. 
Every  article  of  commerce  has  its  peculiar  characteristics  and 
develops  its  own  peculiar  conditions.  Every  source  of  supply 
for  raw  materials  has  its  local  peculiarities,  and  many  of  them 
must  look  to  constantly  shifting  markets.  Every  plant  for  the 
manufacture  of  anything  has  its  individual  requirements.  Every 
commercial  centre  has  its  own  individuality,  made  up  of  a variety 
of  conditions  affecting  the  sources  of  supply,  markets  of  disposi- 
tion, methods  of  transportation,  and  its  own  physical  aspects. 
Every  railroad  has  its  own  problems  to  meet,  its  own  phenomena 
of  supply  and  demand  of  cars  and  locomotives,  its  own  difficulties 
as  to  grade  and  curvature,  its  own  varying  conditions  as  to  the 
direction  in  which  cars  move  empty  and  trains  are  lightest  ; 
its  own  problems  of  congestion,  its  own  duties  to  industries  and 
communities  dependent  upon  it  ; and  the  whole  of  this  differs 
for  every  railroad  and  for  every  season  of  the  year,  and  on  each 
railroad  these  conditions  may  vary  on  every  division  and  at  every 
terminal.  Conceive,  if  possible,  of  the  continued  but  constantly 
varied  interaction  of  all  of  these  commercial,  industrial  and 
transportation  conditions  and  problems,  and  of  numerous  others 


5 


impossible  to  enumerate,  and  some  idea  may  be  obtained  of  the 
forces  which  make  railroad  rates  and  of  the  complexities  and 
difficulties  of  the  subject.” 

It  is  hard  to  appreciate  the  number  of  changes  in  rate  which 
is  rendered  necessary  by  commercial  conditions.  The  Commis- 
sion has  found  that  the  daily  changes  are  more  than  260,  on  the 
average.  Assuming  that  many  of  these  changes  are  unneces- 
sary, yet  the  fact  remains  that  in  all  probability  a large  propor- 
tion of  them  are  changes  which  are  advantageous  to  the  public 
as  well  as  to  the  railroads.  If  the  Commission  be  given  power 
to  fix  rates,  and  if  in  the  course  of  time  the  rates  throughout 
the  country  have  been  passed  upon,  in  one  form  or  another,  by  the 
Commission,  it  is  easily  seen  how  impossible  it  would  be  for  the 
Commission  to  give  proper  consideration  to  an  hundredth  part 
of  the  cases  which  might  come  before  it,  for  each  case  under  the 
terms  of  the  act  would  involve  a public  hearing. 

It  is  not  my  intention,  however,  to  discuss  in  detail  this  great 
problem  which  is  now  before  the  railroads  and  the  country.  I 
have  merely  outlined  the  question  and  suggested  some  difficul- 
ties. My  purpose  is,  raV^er,  to  attempt  some  analysis  of  the 
great  question  of  the  standard  by  which  the  reasonableness  of 
rates  is  to  be  tested. 

What  is  the  Test  of  the  Reasonableness  of  Rates  ? 

A railroad  can  charge  only  such  rates  for  the  transportation 
of  passengers  and  freight  as  are  reasonable.  The  Interstate 
Commerce  Act  forbids  the  imposition  of  unreasonable  rates,  but 
in  so  doing  has  added  nothing  to  the  common  law  obligation  of 
the  carrier. 

There  always  has  been,  and  probably  there  always  will  be, 
controversy  between  the  railroads  and  the  public, — the  one 
claiming  that  their  rates  are  reasonable,  the  other  that  they 
are  unreasonable.  Suits  are  brought  in  the  courts,  proceedings 
are  instituted  before  the  Interstate  Commerce  Commission,  and 
legislatures  are  being  continually  agitated,  to  compel  the  rail- 
roads to  comply  with  their  common  law  and  statutory  obliga- 


6 


tions,  and  yet  throughout  all  the  decisions  of  the  courts  and  the 
Commission  and  in  the  discussions  in  the  legislatures,  there  is 
little  said  about  the  standard  by  which  rates  are  to  be  tested. 
The  consequences  are  that  the  railroads  and  the  public  are 
unable  to  meet  upon  a common  ground.  The  railroads  are 
often  accused  by  the  public  of  extortion  and  disregard  for  the 
public  interest  when  the  whole  trouble  comes  from  an  honest 
difference  of  opinion  in  regard  to  the  standard  by  which  rates 
are  to  be  tested.  The  railroad  asks  if  less  than  a cent  a ton  per 
mile  can,  under  any  circumstances,  be  declared  unreasonable, 
and  the  public  answers  that  the  railroad  is  earning  from  6 to 
10  per  cent,  dividends  upon  its  capital  stock,  which  in  itself 
shows  that  the  public  is  not  receiving  the  rates  which  it  ought 
to  receive.  My  attempt  now  is  to  arrive,  if  possible,  at  some 
common  understanding,  and  to  discuss  certain  elements  which 
enter  into  any  consideration  of  the  standard  of  reasonable  rates. 
By  such  an  analysis  it  will  at  least  be  possible  to  arrive  at  an 
understanding  in  reference  to  certain  elements  and  to  know 
wherein  the  public  and  the  railroads  differ  as  to  others. 


The  Public  Service  Functions  of  a Railroad. 

The  public  has  no  concern,  broadly  speaking,  with  the  profits 
which  an  individual  or  a corporation  may  make  in  the  manufac- 
ture of  hats,  or  in  the  making  of  lead  pencils,  or  in  the  production 
of  cotton  cloth.  Has  the  public  any  more  to  say  about  what  shall 
be  the  profits  of  a railroad  ? It  certainly  has  a great  deal  more  to 
say.  In  the  first  place,  a railroad  cannot  be  constructed  without 
the  granting  to  the  corporation  of  certain  vast  powers,  which  pow- 
ers belong  to  the  people  and  which  are  given  to  the  corporation 
through  the  people’s  representatives,  the  legislatures.  Without 
the  power  to  take  land  against  the  will  of  the  owner  no  railroad 
could  be  laid  out  at  any  but  an  exorbitant  expense,  if  at  all. 
The  corporation  therefore  receives  from  the  people  a great 
power,  of  which  the  people  are  the  sole  repositories.  Again,  in 
the  present  state  of  civilization,  the  people  are  as  absolutely 
dependent  upon  the  railroad  as  upon  food  and  clothing.  In 


7 


fact,  should  the  railroads  suddenly  cease  to  operate,  the  peo- 
ple in  many  sections  of  the  country  would  starve.  Again,  in 
the  very  nature  of  the  undertaking,  the  railroad  is  to  a greater 
or  less  extent  a monopoly  ; in  short,  the  people  cannot  exist 
without  railroads,  and  that  highest  law  of  nature,  self-preserva- 
tion, is  a sufficient  justification  for  public  supervision. 

The  railroads,  therefore,  are  public  service  corporations,  and 
as  such  must  serve  the  public,  and  the  public  has  a right  to 
demand  that  it  shall  be  served  faithfully  and  well.  It  is  true, 
also,  that  the  managers  of  great  railroad  properties,  as  a rule, 
recognize  that  they  are  not  free  agents  to  exploit  the  property 
submitted  to  their  charge  in  any  way  they  may  see  fit.  But,  on 
I the  other  hand,  there  are  many  railroad  officials  who  fail  utterly 
to  recognize  the  proper  functions  of  the  railroad,  and  are  inclined 
to  hold  that  all  restraints  on  the  part  of  the  people  are  unjustifi- 
able and  simply  a demonstration  of  the  ignorant  power  of  the 
people  or  the  stupidity  of  their  representatives.  Such  men  have 
done  more  to  disturb  the  relations  between  the  public  and  the 
railroads  than  any  other  influence.  By  their  arrogant  attitude 
they  have  alienated  all  public  sympathy  and  support,  and  find 
themselves  at  war  with  the  powers  which  made  them  and  to 
which  they  are  responsible.  This  attitude  on  the  part  of  a few 
has  redounded  to  the  everlasting  harm  of  those  railroads  which 
are  endeavoring  to  serve  the  public  according  to  the  measure  of 
their  obligations.  These  men  have  been  one  of  the  chief  causes 
of  the  growth  of  the  socialistic  element  in  the  community,  and 
have  been  instrumental  in  arraigning  against  the  railroad  the 
public  sentiment  of  a great  body  of  intelligent  people.  No 
socialistic  movement  has  ever  done,  or  will  ever  do,  as  much 
injury  to  the  railroad  corporate  interests  as  has  been  done, 
within  the  last  few  years,  by  men  in  direct  charge  of  these  prop- 
erties, who  by  their  unreasonable  attitude  before  Commissions 
and  other  public  bodies  have  shown  to  the  great  mass  of  the 
thinking  public  that  they  utterly  fail  to  comprehend  the  depend- 
ence of  the  properties  submitted  to  their  control  on  the  public 
which  created  them.  The  reason  why  this  attitude  is  assumed 
by  some  railroad  managers  is  due  to  two  causes.  First,  because 


8 


in  many  instances  the  stockholders  and  directors  demand  that 
the  officials  of  the  road  shall  earn  all  the  money  possible  for 
the  stockholders,  and  the  attention  of  the  managers  is  simply 
directed  towards  receiving  from  the  public  as  much  as  possible 
and  giving  out  to  it  as  little  as  possible  ; and  secondly,  in  many 
instances,  the  railroad  managers,  although  competent  to  run  a 
railroad,  as  a railroad,  are  too  narrow-minded  and  too  ignorant 
of  the  great  problems  to  be  able  to  grasp  the  fundamental  prop- 
osition that  a railroad  must  be  faithful  to  the  people  from  whom 
it  derives  its  rights  and  powers. 

If  there  is  a disregard  of  the  rights  of  the  people  on  the  part  of 
many  railroad  managers,  there  is  on  the  part  of  the  people  a dis- 
regard of  the  rights  of  the  railroad.  The  people  have  the  right 
and  the  power  to  operate  the  railroads  themselves  if  they  see  fit. 
But  from  the  inception  of  railroad  building  the  public  has  felt  that 
the  interests  of  all  concerned  would  be  best  served  if  the  build- 
ing and  operation  of  railroads  were  left  to  private  enterprise. 
It  is,  unquestionably,  fortunate  for  this  country  that  this  was  so, 
for  it  is  only  through  the  enterprise  and  daring  of  private 
individuals  that  anything  great  in  industrial  lines  can  ever  be 
accomplished.  Having  left,  therefore,  the  building  and  manage- 
ment of  railroads  to  private  enterprise,  it  is  in  the  interests  of 
all  concerned  that  that  enterprise  shall  be  left  as  unfettered  and 
untrammelled  as  possible,  and  that  it  shall  have  the  incentive  of 
gain  and  power  to  urge  it  on  to  still  greater  efforts.  One  of  the 
principal  obstacles  in  the  successful  operation  of  railroads  is 
that  they  are  continually  fettered  by  unnecessary  and  minute 
exactions  which  are  forced  upon  them  by  the  legislative  power, 
and  that  at  every  turn  they  are  encountered  by  some  prohibi- 
tion or  command  which  emanates  from  the  fertile  brain  of  some 
representative  of  the  people.  This  attitude  of  the  public  is  due 
in  considerable  measure  to  the  ignorance  and  selfishness  of  the 
representatives  of  the  people ; but  it  is  also  due,  in  no  small 
degree,  to  the  stubbornness  and  ignorance  of  the  railroad  man- 
agers themselves.  If  a railroad  refuses  to  favor  the  public  in 
reasonable  matters,  and,  instead  of  recognizing  the  rights  of  the 
public,  persistently  ignores  them,  it  is  not  unnatural  that  the 


9 


people  will  demand  that  the  railroads  shall  serve  them  according 
to  their  ideas. 

If  a servant  fails  to  recognize  and  provide  for  the  needs  of 
his  master,  the  servant  is  likely  to  be  harassed  by  minute  and 
explicit  details  as  to  how  he  shall  perform  his  duties ; but  if  a 
servant  serves  his  master  faithfully  and  well,  it  is  a wise  master 
who  leaves  to  his  servant  the  working  out  of  the  details.  It  encour- 
ages the  servant  and  makes  him  ambitious  to  do  better  if  he  is 
put  upon  his  mettle  ; it  relieves  the  master  of  annoyance  and 
vexation,  and  the  result  is  the  establishment  of  harmony  between 
the  master  and  the  servant.  Therefore,  the  railroad  should, 
first  and  foremost,  recognize  the  authority  of  its  master  and  try 
to  serve  it  faithfully,  and  then  the  master  will  place  greater 
responsibilities  upon  its  servant  and  leave  to  it  the  working  out 
of  the  details. 

Analysis  of  the  Earnings  of  a Railroad. 

Roughly,  the  gross  earnings  of  a railroad  may  be  divided  into 
three  parts.  First,  the  amount  necessary  to  pay  wages  and 
salaries  of  employees  and  officers ; secondly,  the  amount  neces- 
sary to  keep  the  railroad  and  its  equipment  in  safe  and  proper 
condition  ; and  thirdly,  the  return  to  the  capital  invested  in  the 
railroad. 

We  seldom  if  ever  hear  complaint  on  the  part  of  the  public 
that  the  employees  or  officials  of  a railroad  are  paid  too  much. 
The  salaries  of  the  managing  officers  are  not  as  high  as  the  sal- 
aries of  officers  in  charge  of  private  enterprises  of  much  less 
magnitude,  and  the  wages  of  the  railroad  employees  are  certainly 
not  greater  in  proportion  to  the  labor  and  the  intelligence  of 
the  employees  than  in  any  other  business. 

In  regard  to  the  second  part,  namely,  the  amount  necessary 
to  keep  the  railroad  in  safe  and  proper  condition,  the  public 
directly  benefits  by  every  dollar  which  is  wisely  expended.  The 
building  of  a secure  road-bed  makes  travel  safe ; the  building  of 
stations  accommodates  the  public,  and  if  money  is  spent  in 
ornamentation  it  appeals  to  the  pride  of  the  community  and  of 


IO 


the  travelling  public  ; the  use  of  powerful  and  expensive  loco- 
motives enables  the  public  to  travel  with  greater  speed,  and,  in 
short,  every  dollar  expended  in  construction  and  equipment  is 
for  the  benefit,  direct  or  indirect,  of  the  public. 

There  is,  therefore,  then,  left  only  the  third  element,  namely, 
the  return  to  the  bondholders  and  stockholders,  about  which 
the  public  has  any  reasonable  ground  for  complaint.  If,  there- 
fore, it  is  possible  to  arrive  at  what  is  a just  return  to  the 
capitalists  in  the  form  of  interest  or  dividends,  we  ought  to 
be  able  to  arrive  at  a common  standard,  whereby  reasonable- 
ness of  rates  may  be  determined.  If  the  earnings  of  a railroad 
are  no  greater  than  to  make  reasonable  compensation  to  the 
employees,  to  provide  reasonable  facilities  for  the  public,  and 
to  pay  reasonable  return  to  the  capitalists,  then  there  can  be  no 
cause  for  complaint  on  the  part  of  anyone  ; and  if,  at  the  pre- 
vailing rates  of  fare  and  freight,  more  than  this  sum  is  earned, 
the  surplus  should  either  go  back  to  the  public  in  some  form  or 
other,  or  else  the  rates  should  be  lower.  All  this  is  axiomatic. 
It  is  intended  for  nothing  more  than  an  analysis,  and  we 
certainly  have  not  progressed  far  in  solving  the  question  of  the 
reasonableness  of  rates.  But  we  have  got  this  far,  if  we  can 
determine  what  is  a fair  return  to  the  capitalists,  it  must  be 
conceded  that  everything  over  and  above  that  must  be  returned 
to  the  public  in  some  form  or  other. 

What  has  been  done  by  the  Public  towards  fixing 
the  Rate  of  Return  for  Capital? 

If,  at  the  inception  of  railroad  building,  the  public  had  said  to 
the  railroad  promoters,  we  will  give  you  these  large  powers  on 
condition  that  if  the  return  to  your  capital  is  more  than  so  much 
per  cent.,  the  balance  shall  be  turned  over  to  us,  and  capital  had 
been  invested  on  the  faith  and  strength  of  such  an  understand- 
ing, it  would  seem  to  be  right  that  the  investors  should  receive 
a return  equal  to  the  amount  fixed  as  the  limit  by  the  legis- 
latures. This  is  an  aspect  of  the  question  which  appears  to 
have  been  utterly  ignored  by  those  who  are  the  most  strenuous 
exponents  of  the  people’s  rights,  and  yet  it  is  hard  to  see  just 


I 


how  this  argument  is  to  be  met.  Now,  as  a matter  of  fact,  in 
many  railroad  charters  a limit  is  fixed  beyond  which  return  to 
capital  cannot  go ; and  when  not  fixed  by  the  charter,  it  is  often 
fixed  by  general  laws  of  the  Legislature.  An  examination  of 
railroad  charters  will  show  that  the  limit  on  dividends  varies 
from  8 per  cent,  to  20  per  cent.  Under  the  general  laws  in 
many  States,  the  maximum  rate  of  dividend  is  not  often  placed 
at  less  than  10  per  cent.  In  New  York,  for  instance,  Legisla- 
ture cannot  reduce  rates  so  that  the  net  profits  shall  be  less 
than  10  per  cent.,  and  in  Arkansas  the  limit  is  15  per  cent.;  in 
New  Hampshire  the  public  statutes  provide  that  “ When  the 
net  income  of  any  railroad  shall  exceed  10  per  cent,  upon  its 
stock,  the  Legislature  may  alter  and  revise  the  rates  of  toll  for 
freight  and  passengers  as  it  deems  just.”  In  Virginia  the  limit 
is  10  per  cent.,  and  the  North  Carolina  general  laws  provide  that 
the  rates  shall  not  be  reduced  so  as  to  make  the  profits  less 
than  6 per  cent. 

It  is  true  that  in  all  States  there  is  no  general  law  regulating 
the  profits  of  a railroad.  Nevertheless,  whenever  the  public  has 
fixed  a rate  beyond  which  railroads  cannot  pay  dividends,  they 
have  always  set  the  limit  beyond  anything  which  has  been 
earned  by  railroads  affected  by  these  laws. 

The  territory  east  of  the  Mississippi  and  north  of  the  Ohio  is 
the  most  densely  populated  of  any  portion  of  the  United  States, 
and  the  amount  of  traffic  is  undoubtedly  the  greatest.  It  is  a 
territory  which  includes  such  great  railroad  systems  as  the 
Pennsylvania,  New  York  Central  & Hudson  River,  Lake  Shore 
& Michigan  Southern,  Big  Four,  Wabash,  and  Boston  & Maine, 
and  yet  it  is  a surprising  fact,  that  of  the  thirty  railroads  in  the 
official  classification  territory,  during  the  year  1900,  sixteen 
paid  no  dividends  on  the  common  stock  ; one  paid  a dividend  of 
1 per  cent.,  one  of  3^  per  cent.,  two  of  4 per  cent.,  three  of  5 per 
cent.,  two  of  6 per  cent.,  three  of  7 per  cent.,  one  of  8 per  cent., 
and  one  of  8f  per  cent.  A further  analysis  of  the  dividends 
paid  by  these  railroads  shows  that  the  average  dividend  upon 
the  capital  stock,  including  both  the  common  and  the  preferred, 
was  less  than  2J  per  cent. 


12 


This  is  an  extraordinary  showing  for  the  railroads  in  the  most 
populous  part  of  the  United  States  in  a year  of  the  greatest 
prosperity.  Certainly,  railroads  as  a whole  have  not  prospered 
as  have  other  industries,  and  the  stockholders  have  not  profited 
at  the  expense  of  the  public.  Is  it  not  pertinent  to  ask  why  the 
public  should  enter  into  an  agreement  with  its  servants,  whereby 
they  are  entitled  to  earn  a certain  recompense,  and  then  seek  in 
every  possible  way  to  deter  them  from  ever  being  able  to  get 
the  return  which  they  in  law  are  entitled  to  ? It  looks  almost 
like  a breach  of  faith. 

The  importance  of  the  limitation  of  dividend  in  determining 
the  question  of  reasonableness  of  rates  has  been  recognized  by 
the  Interstate  Commerce  Commission  in  the  remarkably  able 
opinion  “In  the  Matter  of  Proposed  Advances  in  Freight 
Rates,”  decided  April  i,  1903.  It  says : 

“ It  is  plain  that  until  there  be  fixed,  either  by  legislative 
enactment  or  judicial  interpretation,  some  definite  basis  for  the 
valuation  of  railroad  property,  and  some  limit  up  to  which  that 
property  shall  be  allowed  to  earn  on  that  valuation,  there  can  be 
no  exact  determination  of  these  questions.  In  the  absence  of 
such  a standard,  the  tribunal,  whether  court  or  commission, 
which  is  called  upon  to  consider  this  matter,  can  only  upon  the 
whole  exercise  its  best  judgment.” 

The  important  point,  however,  is  ignored,  that  in  many  States 
a limitation  has  been  fixed,  and  that  in  only  a few  instances 
have  railroads  even  approximated  to  this  limit.  Certainly,  if 
more  than  half  the  railroads  in  the  most  populous  portion  of 
the  country  are  unable  to  earn  anything  on  their  common  stock, 
and  if,  taking  the  railroads  as  a whole,  they  earn  less  than  2J  per 
cent,  on  both  common  and  preferred  stock,  there  ought  not  to 
be  complaint  because  a railroad  so  fortunately  situated  as  the 
Lake  Shore  & Michigan  Southern  Railroad  earns  7 per  cent, 
on  its  common  stock. 

Furthermore,  it  is  always  well  to  bear  in  mind  that  the  present 
stockholders  of  the  railroads  paying  large  dividends  have,  in 
most  instances,  bought  their  stock  on  a 4 or  5 per  cent,  basis  or 
less,  and  that  any  reduction  in  dividends  would  be  a gross  injus- 


13 


tice  to  them.  Again,  in  some  States,  like  Massachusetts,  new 
stock  sold  for  permanent  improvements  has  to  be  sold  at  the 
market  price,  and  recently,  Boston  & Maine  stock  paying  7 per 
cent,  dividends  was  sold  at  190,  thus  netting  the  purchaser  only 
3 A Per  cent. 

What  is  the  Proper  Basis  of  Capitalization  ? 

Assuming  that  it  is  possible  to  arrive  at  the  rate  of  interest 
which  capital  is  justified  in  receiving,  upon  what  basis  of  cap- 
italization should  such  rate  be  reckoned  ? It  is  clear  that  any 
capitalization  which  is  based  upon  a fictitious  value  is  wrong ; 
for,  as  has  happened  in  the  cases  of  many  railroads,  the  stock 
and  bonds  were  largely  watered.  The  capitalization  to  be  used 
as  a basis  must  have  eliminated  every  element  which  went  to 
make  up  the  false  capitalization.  But  we  still  are  confronted 
by  another  problem.  Shall  the  basis  of  capitalization  be  the 
original  cost  of  the  railroad  plus  the  amount  of  capital  which 
has  been  put  in  for  permanent  improvements,  or  shall  there 
be  taken  as  a basis  of  capitalization  the  amount  which  would 
be  required  to  build  a new  railroad  of  similar  extent  and 
kind  ? This  latter  basis  is  the  one  which  appears  to  have  been 
approved  by  the  Supreme  Court  of  the  United  States  without 
any  careful  consideration  or  analysis.  But  is  it  the  proper  basis  ? 
If  the  Government,  at  the  inception  of  railroading,  had  itself 
undertaken  the  building  and  operating  of  railroads,  a certain 
amount  of  capital  would  have  been  required,  and  this  capital 
would  have  to  be  borrowed  by  the  Government,  and  interest 
would  have  to  be  paid  upon  it.  Under  private  ownership,  capital 
is  advanced  by  private  individuals,  and  they  look  to  the  produc- 
tiveness of  the  property,  whereas  those  who  loan  money  to  the 
Government  for  the  building  of  a railroad,  would  look  to  the 
Government  for  its  security  and  reimbursement.  In  the  case  of 
Government  ownership,  the  whole  people  of  the  country  are  taxed, 
largely  for  their  own  benefit,  but,  nevertheless,  in  a measure,  for 
the  benefit  of  those  making  the  greater  use  of  transportation 
facilities.  Under  Government  ownership,  the  people,  as  a whole, 
would  be  obliged  to  pay  interest  on  the  original  investment,  and 


M 


upon  all  subsequent  investment  for  extension  or  improvement  of 
the  property.  What  reason  is  there,  therefore,  why  private 
individuals  who  have  invested  in  railroads  should  not  be  entitled 
to  receive  return  on  all  that  they  have  put  in,  even  though 
at  any  particular  time,  the  plant  could  be  duplicated  for  less  than 
the  amount  expended  ? Perhaps,  however,  the  difference  is  not 
important,  as  a railroad  which  is  properly  financed  endeavors 
to  take  from  the  earnings  a sufficient  amount  to  keep  up  the 
plant  so  that  at  any  particular  time  it  is  fair  to  assume  that  the 
cost  of  duplicating  a plant  would  not  be  much  less  than 
the  original  cost  plus  the  cost  of  improvements.  This,  too, 
affords  a justification  for  a railroad  accumulating  a surplus  — if 
surplus  it  be  called  — and  turning  it  into  the  property  to  increase 
its  efficiency.  In  fact,  it  is  impossible  from  the  examination  of 
the  accounts  of  railroads  to  determine  whether  or  not  any  particu- 
lar railroad  is  accumulating  a surplus  in  the  sense  that  there  is  a 
profit  over  and  above  operating  expenses,  for  it  is  a well-known 
fact  that  the  best  railroads,  those  which  are  most  soundly  financed, 
charge  to  operating  expenses  a large  amount  which  goes  into  the 
bettering  of  the  property.  If  money  has  been  honestly  expended 
in  original  construction  and  in  improvements,  the  difference 
between  the  cost  and  the  present  value  would  probably  not  be 
very  material ; for,  with  the  lapse  of  time,  some  things  have 
greatly  increased  in  value,  and  particularly  that  element  which 
is  one  of  the  largest  elements  of  cost,  namely,  land.  Neverthe- 
less, in' all  fairness,  it  would  still  seem  that  the  basis  to  be  used, 
if  there  is  a difference  between  these  two  bases,  is  that  of  the 
honest  original  cost  plus  honest  expenditure  for  keeping  the 
property  up  to  a high  standard. 

Conclusions  as  to  Rate  of  Dividend. 

Given,  then,  a capitalization  which  represents  honest  expendi- 
ture, there  certainly  can  be  no  complaint  upon  the  part  of  the 
public  if  stockholders  receive  a return  not  greater  than  that  set 
forth  in  the  original  contract,  which,  in  few  if  any  cases,  has 
been  fixed  by  the  public  at  less  than  6 per  cent.;  and,  if  by 
reason  of  commercial  and  competitive  conditions,  more  than 


15 


one  half  of  the  railroads  in  the  most  densely  populated  portion 
of  the  country  are  unable  to  pay  anything,  and  the  best  situated 
railroads  only  pay  7 or  8 per  cent.,  it  would  seem  as  if  it  were 
hard  to  establish  the  proposition  that  railroad  rates  were  unrea- 
sonably high.  It  is  not  possible  for  all  railroads  to  pay  the  same 
rate  of  per  cent.,  due  to  commercial  and  competitive  conditions ; 
and  furthermore,  if,  through  want  of  foresight  of  the  promoters, 
a railroad  is  built  through  a country  which  furnishes  little  traffic, 
the  railroad  ought  not  to  expect  to  pay  to  the  stockholders  the 
same  returns  which  are  paid  by  a railroad  operating  through  a 
thickly  settled  and  prosperous  country.  And  yet,  such  railroads 
ought  not  to  be  expected  to  bear  the  whole  burden,  and  to  trans- 
port freight  and  passengers  from  local  points  at  the  same  rate 
that  they  are  transported  on  other  lines.  If  it  had  not  been  for 
the  railroad,  the  community  would  not  have  developed  even  as 
far  as  it  has,  for  the  community  is  as  much  dependent  upon  the 
railroad,  as  the  railroad  is  upon  the  community.  That  commu- 
nity, therefore,  ought  to  expect  to  pay  more  for  its  transportation 
than  other  more  favorably  situated  communities,  and  the  railroad 
thus  situated  ought  to  be  able  to  pay  to  its  stockholders  a mod- 
erate rate  upon  the  capital  invested,  although  in  doing  so  it  may 
charge  the  community  much  higher  rates  than  are  charged  else- 
where. Therefore,  any  legislature  which  seeks  to  place  all 
railroads  upon  a dead  level  of  rates,  based  upon  so  much  per 
passenger  per  mile,  or  per  ton  per  mile,  is  unjust  to  the  railroads. 
Under  such  circumstances,  a railroad  can  be  safely  trusted  to 
keep  its  rates  at  as  low  a point  as  possible,  for  only  in  this  way 
can  travel  and  traffic  be  stimulated.  Such  a railroad  cannot 
expect  and  ought  not  to  place  its  rates  so  high  that  it  can  pay 
unreasonably  large  dividends  to  its  stockholders,  but  it  ought  to 
be  able  to  make  a moderate  return  to  capital  which  built  the 
railroad  and,  in  building  the  railroad,  increased  the  prosperity 
of  the  communities  through  which  it  runs. 

The  more  fortunately  situated  railroad  ought  to  be  allowed 
to  share  in  the  general  prosperity  of  the  community,  which, 
undoubtedly,  it  has  been  largely  instrumental  in  building  up,  and 
to  attempt  to  reduce  such  a railroad  to  the  low  level  of  less 


i6 


fortunate  railroads  would  be  an  injustice  to  those  who  had  risked 
their  capital  in  originally  building  a railroad.  It  would,  there- 
fore, seem  to  be  true  that  it  is  impossible  to  say  what  is  the 
proper  rate  of  return  upon  capital  invested  in  railroads,  because 
a rate  which  would  be  fair  to  one  would  not  be  fair  to  another. 
It  would  be  manifestly  a burden  upon  the  public,  and  an  unjust 
burden,  if  a railroad  running  through  a sparsely  settled  section 
of  New  Hampshire  should  be  allowed  to  pay  ten  per  cent,  divi- 
dends. But  it  would  be  equally  unjust  if  a railroad  running 
through  the  populous  portions  of  New  York  and  Ohio  should  not 
be  allowed  to  share  in  the  general  prosperity  of  the  community  ; 
and  ten  per  cent,  upon  an  honest  capitalization  under  such  cir- 
cumstances might  not  be  unreasonable. 

It  seems  to  be  an  unavoidable  conclusion  that  it  is  impossible 
to  fix  upon  any  uniform  basis  of  return  to  a railroad,  except  that 
the  most  favorably  situated  shall  not  pay  more  than  the  people 
have  set  as  a maximum,  but  it  is  contrary  to  justice,  contrary  to 
the  instincts  of  a progressive  people,  that  a railroad  fortunately 
situated  and  ably  managed  should  not  be  allowed  to  pay  divi- 
dends in  excess  of  the  average  return  for  capital  invested  in 
railroad  enterprises. 

We  have  not  reached  any  very  accurate  standard  of  rates,  but 
two  or  three  propositions  seem  reasonably  clear.  The  first  is, 
that  the  basis  of  capitalization  ought  to  be  honest  expenditure ; 
and  secondly,  that  few,  if  any,  railroads  probably  pay  upon  an 
honest  expenditure  a rate  in  excess  of  the  rate  which  they  may 
legally  pay;  and  thirdly,  that  under  commercial  and  competitive 
conditions  it  is  impossible  for  many  railroads  to  pay  even  the 
rate  which  they  may  lawfully.  There  very  well  might  be  a con- 
sensus of  opinion  that  a certain  railroad  would  be  justified  in 
earning  a net  return  of  five  million  dollars,  which  we  would  say 
might  be  four  per  cent,  on  an  honest  expenditure ; but  the  con- 
ditions are  such  in  the  case  of  the  majority  of  railroads  that  they 
never  have  earned  this  return,  and  it  is  doubtful  if  they  ever 
will. 


i7 


Should  the  Standard  be  determined  by  the  Cost  on  the 

Best  Lines  ? 

Before  passing  to  the  important  and  intricate  question  of  how 
the  burden  of  the  cost  of  transportation  should  be  apportioned 
among  the  numerous  articles  of  traffic,  it  will  be  of  value  to  discuss 
for  a moment  the  opinion  of  the  Interstate  Commerce  Commission 
“ In  the  Matter  of  Proposed  Advances  in  Freight  Rates,”  given 
April  i,  1903.  This  opinion  is  an  extremely  valuable  contribu 
tion  to  the  literature  of  railroad  economics.  In  reading  this 
opinion,  which  was  written  by  Mr.  Commissioner  Prouty,  one 
cannot  help  being  impressed  with  the  keenness  of  its  logic  and 
with  the  remarkable  clearness  of  statement,  until  the  final  con- 
clusion is  reached  as  to  the  proper  basis  for  fixing  rates,  when,  it 
is  respectfully  submitted,  a conclusion  is  drawn  which  is  not 
warranted  by  the  remarkably  clear  analysis  and  discussion  which 
precede  it.  The  Commission  in  this  opinion  is  endeavoring  to 
arrive  at  the  cost  of  transportation,  and  although  it  says  that  it 
would  hardly  be  just  to  compel  the  fixing  of  a rate  which  was 
reasonable  with  respect  to  the  best  equipped  line  alone,  never- 
theless it  goes  on  and  makes  its  comparisons  with  the  cost  of 
transporting  grain  on  the  Lake  Shore  & Michigan  Southern 
Railroad,  which  unquestionably  is  so  situated  and  equipped  that 
it  can  carry  traffic  at  a less  cost  than  any  other  great  railroad  in 
the  country  ; and  the  Commission,  after  analyzing  the  profitable- 
ness of  the  grain  traffic  on  this  road,  draws  a conclusion  that 
the  proposed  advance  in  rates  is  unwarranted.  This  conclusion 
may  be  right,  but  the  danger  lies  in  reaching  the  conclusion  by 
a comparision  which  would  lead  to  most  disastrous  results  if 
used  as  the  general  basis  for  determining  the  reasonableness  of 
rates. 

The  opinion  suggests  a problem  and  a difficulty.  Assuming 
that  the  rates  prevailing  enable  the  Lake  Shore  &f  Michigan  South- 
ern to  earn  on  its  stock  an  unreasonably  large  dividend,  and  yet 
such  rates,  when  applied  to  other  railroads,  when  tested  by  the 
net  return  to  capital,  cannot  be  said  in  any  way  to  be  unreasona- 
ble, what  is  the  situation  ? Of  course,  it  is  absurd  to  say  that 


i8 


other  competitive  lines  may  be  allowed  to  exact  a higher  rate 
than  the  Lake  Shore  & Michigan  Southern.  Each  competitive 
road  must  make  practically  the  same  rates.  The  Commission 
has  said  that  it  would  be  obviously  unfair  to  take  as  a standard 
the  least  favorably  situated  railroad,  but  it  has  seemed  to  think 
that  there  is  no  alternative  between  taking  the  least  favorably 
and  the  most  favorably  situated. 

Assume  for  the  moment  that  the  prevailing  rates  leave  to  the 
Lake  Shore  an  unreasonably  large  margin,  judged  by  the  cost 
of  transportation.  Now,  the  road  pays  only  such  dividends  as 
the  law  — that  is,  the  people — has  said  that  it  can  pay.  Who 
then  can  complain  if  the  railroad  is  earning  what  by  law  it  has 
a right  to  earn  ? How  can  the  rates  be  said  to  be  unreasonable 
when  the  only  possible  test  of  reasonableness  is  the  surplus 
which  is  left  after  paying  operating  expenses  and  when  the 
people  have  said  that  that  surplus  belongs  to  the  stockholders  ? 

Probably  the  answer  of  the  Commission  on  this  point  would 
be,  that  this  railroad  has  expended  its  enormous  surplus  in  per- 
manent improvements  and  in  other  expenditures  which  are  not 
absolutely  necessary  for  proper  operation  of  the  railroad.  It  is 
not  and  cannot  be  claimed  that  this  surplus  is  foolishly  wasted, 
but  that  it  is  charged  up  in  large  part  to  operating  expenses. 
In  other  words,  the  contention  is  that  rates  should  not  be  so 
high  as  to  enable  so  large  a surplus  to  be  accumulated,  but  that 
the  public  ought  to  profit  by  the  railroad’s  favorable  circum- 
stances to  secure  lower  rates.  If  this  were  the  case  of  a single 
railroad,  whose  action  in  the  fixing  of  rates  would  not  affect  one 
way  or  another  other  railroads  and  communities,  this  argument 
would  perhaps  be  sound.  But  let  us  see  what  would  be  the 
result  upon  other  railroads  and  other  communities  if  the  rates 
on  the  Lake  Shore  & Michigan  Southern  were  reduced  to  such 
a point  as  to  make  it  barely  possible  to  declare  the  dividends  to 
which  its  stockholders  are  entitled.  It  is  admitted  that  the 
rates  on  competitive  traffic,  which  would  yield  this  railroad 
merely  a fair  return,  would  yield  to  many  of  the  competitive 
lines  a rate  which  would  be  unreasonably  low,  and  might,  in 
some  cases,  result  in  the  carrying  of  traffic  at  a rate  not  much 


19 


more  than  the  actual  cost  of  operating.  Whom  would  it  affect  ? 
In  the  first  place,  it  is  clear  that  these  competitive  railroads 
would  find  a great  shrinkage  in  revenue  from  this  particular 
class  of  traffic.  Now,  these  railroads  are  entitled  to  pay  divi- 
dends, and  if  their  managers  are  competent  officers  they  will 
endeavor  to  increase  their  earnings  from  other  non-competitive 
traffic.  The  inevitable  result  would  be  that  the  local  traffic 
along  the  line  of  these  railroads  would  have  to  bear  more  than 
,its  fair  share  of  the  transportation  burden.  Shippers  in  Chicago 
would  be  able  to  avail  themselves  of  the  low  rates,  but  shippers 
along  the  lines  of  the  less  favorably  situated  railroad  would  find 
that  they  were  paying  much  higher  rates  than  people  in 
Chicago,  although  the  distance  traversed  was  much  less.  The 
inevitable  result  would  be  that  communities  along  the  lines  of 
these  railroads  would  be  put  at  a distinct  disadvantage  as  com- 
pared to  the  communities  which  could  avail  themselves  of  the 
competitive  conditions.  The  Supreme  Court  of  the  United 
States  has  held,  in  numerous  cases,  that  there  is  nothing  in  the 
Interstate  Commerce  Act  to  prevent  the  imposition  of  higher 
rates  for  a shorter  haul,  when  the  rates  for  the  longer  haul  are 
fixed  by  competition. 

Would  it  not  be  better  that  the  Lake  Shore  & Michigan 
Southern  Railroad  be  allowed  to  pay  large  dividends,  rather 
than  that  all  non-competitive  communities  off  of  its  line  should 
be  allowed  to  suffer?  And  if  this  railroad,  instead  of  paying 
still  larger  dividends,  sees  fit  to  take  its  surplus  earnings  and 
put  them  into  permanent  improvements,  what  harm  results  ? 
Who  is  the  beneficiary  of  this  accumulated  surplus  ? Not  the 
stockholders,  if  the  limit  of  dividends  authorized  by  law  has 
been  reached.  Not  the  employees  or  the  officials,  whose 
stipends  are  fixed  largely  by  competitive  reasons.  Those  who 
benefit  are  those  who  live  along  the  line  of  the  railroad  and 
those  who  patronize  the  railroad.  And  why  should  not  the 
communities  whose  natural  advantages  are  such  as  to  enable 
the  transportation  of  freight  to  be  accomplished  at  the  lowest 
possible  figure  be  the  ones  to  profit  by  their  own  natural 
advantages  ? The  logical  conclusion,  therefore,  is  that  the  cost 


20 


of  transportation  on  the  most  favorably  situated  line  ought  not 
to  determine  the  reasonableness  of  rates. 

Principles  Governing  Rates  and  Classification. 

Let  us  now  assume  that  we  have  been  able  to  determine  how 
much  net  income  a railroad  is  justified  in  earning  ; the  next 
problem,  and  the  most  intricate  and  difficult,  is  to  determine  by 
what  standard,  or  according  to  what  principles,  this  ought  to  be 
apportioned  among  the  various  articles  of  traffic ; or,  in  other 
words,  to  determine  how  many  cents  per  hundred  pounds  should 
be  charged  on  the  various  articles  of  transportation  for  the 
innumerable  distances  each  article  may  have  to  travel.  It  is  at 
once  seen  that  with  eight  or  nine  thousand  different  articles  of 
commerce  offered  for  transportation,  for  distances  ranging  from 
two  or  three  miles  to  several  thousand  miles,  the  problem  is  of 
the  greatest  practical  difficulty,  if  even  approximately  proper 
results  are  to  be  accomplished. 

The  railroads  have  greatly  simplified  the  problem  in  two 
ways.  In  the  first  place,  they  have  attempted  to  divide,  approxi- 
mately, all  of  the  traffic  into  six  different  classes,  and  then  have 
fixed  the  same  rate  for  all  articles  in  any  particular  class.  There 
are,  of  course,  numerous  exceptions,  but,  on  the  whole,  these 
distinct  classes  contain  the  great  bulk  of  the  articles  of  com- 
merce. Then,  as  is  well  known,  the  rate  on  a class  is  deter- 
mined by  fixing  rates  for  some  standard  distance,  as,  for 
instance,  between  Chicago  and  New  York,  and  then  dividing  up 
the  rest  of  the  territory  on  a percentage  basis.  For  example, 
certain  territory  south  of  Chicago  may  be  i io  per  cent,  territory  ; 
that  is,  the  rate  from  points  within  this  territory  to  New  York 
will  be  no  per  cent,  of  the  Chicago  rate ; ora  point  east  of 
Chicago  may  be  within  the  90  per  cent,  territory,  and  the  rate 
would  then  be  90  per  cent,  of  the  Chicago  to  New  York  rate. 

If  a practical  traffic  man  is  asked  upon  what  principles  he 
determines  classification,  he  too  often  answers  that  he  studies 
the  situation  and  makes  a classification  and  a rate  as  high  as  the 
traffic  will  bear.  Some  of  our  most  prominent  traffic  officials 
have  made  statements  substantially  like  this  in  hearings  before 


21 


the  Interstate  Commerce  Commission,  and  nothing  has  been 
more  prejudicial  to  the  cause  of  the  railroads  than  such  state- 
ments. It  is  probable  that  these  railroad  men  do  not  mean  quite 
what  they  say,  and  it  is  certain  that  the  results  of  their  efforts 
in  classifying  are  much  fairer  to  the  public  than  such  a method 
would,  on  its  face,  indicate.  If  this  is  the  method  commonly 
prevailing,  it  can  be  justified  only  on  the  ground  that  the  results 
are  not  unfair  to  the  public.  That  this  is  not  a proper  standard 
is  apparent.  There  might,  for  instance,  be  a great  scarcity  of  hay 
in  New  England  and  a great  abundance  in  the  West ; the  own- 
ers of  horses  and  cattle  in  the  East  must  have  hay,  at  almost 
any  price,  and  hay  would  move  from  the  West  to  the  East,  even 
if  rates  were  double  what  all  may  regard  as  reasonable  rates. 
The  traffic  would  bear  a higher  rate  and  the  traffic  would  move 
more  or  less  freely  under  such  higher  rate. 

Some  railroad  officials  take  the  position  that  freight  should  be 
classified  and  rates  fixed  according  to  the  actual  cost  of  trans- 
portation, taking  into  consideration,  of  course,  the  volume  of 
traffic,  the  risks  of  loss,  and  similar  elements.  Here  is  sug- 
gested a basis  which  is  not  unreasonable,  but  at  the  same  time, 
these  principles  do  not  govern  railroads  in  their  present  methods 
of  fixing  rates.  For  instance,  the  rate-  on  a carload  of  cloth 
from  Chicago  to  New  York  is  four  times  the  rate  on  a carload 
of  grain,  but  this  large  difference  is  not  made  up  by  the  addi- 
tional element  of  risk,  for  although  the  loss  of  a carload  of  cloth 
would  be  much  greater  than  the  loss  of  a carload  of  grain,  never- 
theless, as  there  would  so  rarely  be  any  loss,  the  element  of  risk 
is  very  trifling.  An  examination  of  the  classification  will  show 
that  in  the  case  of  very  few  articles  does  the  railroad  fix  its 
rates  purely  on  the  basis  of  cost  of  transportation. 

Consideration  is  always  given  to  the  value  of  the  commodity 
on  the  theory  that  articles  of  great  value  in  small  bulk  can  bear 
a larger  proportion  of  the  cost  of  transportation  than  articles  of 
low  value.  It  is  probable  that  the  railroads  have  worked  largely 
on  the  theory  that  high  value  traffic  will  better  stand  the 
increased  rate,  but  whatever  the  theory  may  be,  it  is  submitted 
that  the  results  are  correct. 


22 


The  rates  of  transportation  are  in  the  nature  of  a tax  upon  the 
community,  and  may  not  the  principles  governing  the  imposi- 
tion of  taxes  have  some  bearing  upon  the  taxes  levied  by  trans- 
portation companies?  It  is  a fundamental  principle  of  taxation 
that  the  necessities  of  life  should  bear  as  little  of  the  burden  as 
possible,  and  that  those  individuals  who  are  best  able  to  pay 
shall  pay  the  larger  amounts.  No  one  has  suggested  that  the 
proper  basis  of  taxation  should  be  according  to  the  benefits 
received  ; that  the  man  with  five  children  should  pay  a larger 
proportion  of  the  school  tax  than  the  man  with  one,  or  that  the 
owner  of  a jewelry  store  should  pay  more  of  the  police  tax  than 
the  occupant  of  a boarding  house.  As  a public  service  corpora- 
tion, therefore,  ought  not  the  railroad  to  take  into  consideration, 
in  fixing  its  rates,  the  persons  upon  whom  the  burden  of  the 
charges  must  fall  ? 

An  examination  of  rates  and  classifications  will  show  that  rail- 
roads, consciously  or  unconsciously,  are  governed  by  all  the 
principles  suggested  above.  Let  us  now  bring  to  a focus  the 
various  elements. 

r.  Cost  of  transportation.  While  it  is  not  true  that  railroads 
do  or  ought  to  determine  their  rates  solely  by  the  cost  of  trans- 
portation, there  can  be  no  doubt  that  this  is  the  principal  element 
entering  into  the  fixing  of  rates.  The  cost  of  service  depends 
upon  various  factors,  chief  among  which  are,  (i)  volume  of 
traffic  ; (2)  distance  ; (3)  risk  of  loss  ; (4)  space. 

The  volume  of  traffic  is  one  of  the  principal  elements  enter- 
ing into  the  cost,  which  decreases  as  the  volume  increases.  A 
carload  can  be  moved  much  more  cheaply  per  hundred  pounds 
than  a quarter  of  a carload,  and  a train  load  likewise  much 
more  cheaply  relatively  than  a carload.  This  element  is  given 
practical  consideration  daily  by  traffic  managers.  In  seeking  a 
rate,  a shipper  is  asked,  first  of  all,  how  many  carloads  he  will 
ship  daily  or  weekly.  Furthermore,  the  railroads  in  all  cases  give 
a carload  rate  at  a figure  much  less  than  less  than  carload  rates. 

The  question  of  distance  is  likewise  an  important  factor.  Of 
course,  the  cost  of  carrying  traffic  a thousand  miles  is  greater 
than  carrying  it  a hundred  miles,  but  the  cost  is  not  by  any 


23 


means  in  proportion  to  the  distance.  A way  freight  picks  up 
traffic  at  numerous  stations,  which  service  involves  a greater 
wear  and  tear  on  rolling  stock,  and  a greater  loss  of  time,  neces- 
sitating higher  wages  per  mile  of  service.  For  example,  on  some 
railroads  train  men  on  through  trains  are  paid  upon  the  basis 
of  a hundred  miles  travel,  whereas  men  on  a local  train  are  paid 
the  same  wages  on  a seventy-five  mile  basis.  The  greater  cost 
of  a pick-up  traffic  is  fully  appreciated  by  railroad  men,  but  the 
importance  is  not  realized  by  theorists. 

The  element  of  risk  of  loss  by  breakage,  theft  or  fire  is  not  of 
great  importance,  except  in  the  case  of  a comparatively  few 
articles  of  transportation.  Show-cases  are  liable  to  breakage 
even  by  the  ordinary  movement  of  freight  trains  ; boots  and 
shoes  are  especially  attractive  to  the  ordinary  railroad  thief, 
and  all  inflammable  material  has  to  be  guarded  with  great  care 
and  at  large  expense.  In  such  cases  the  element  of  risk  may  be 
very  considerable  in  determining  the  cost  of  service,  but  it  does 
not  play  an  important  part  in  fixing  the  rate  in  the  great 
majority  of  cases. 

The  most  important  element,  under  a system  of  fixing  rates 
determined  by  weight,  is  density.  A carload  of  uncompressed 
feathers  may  not  weigh  a thousand  pounds,  and  yet  it  will  be 
necessary  to  haul  30,000  pounds  of  dead  weight.  The  revenue 
yielded  on  a rate  of  so  many  cents  per  hundred  pounds  would 
be  very  slight  unless  the  rate  per  hundred  pounds  was  very 
high,  whereas  a carload  of  wheat  weighing  60,000  pounds  would 
only  require  the  same  amount  of  dead  weight  to  be  hauled  as 
a carload  of  very  light  traffic.  In  other  words,  the  loading 
capacity  of  any  commodity  is  an  element  which  enters  very 
largely  into  the  consideration  of  the  rate.  It  unquestionably 
costs  a little  more  to  haul  a car  loaded  with  50,000  pounds 
than  a car  loaded  with  20,000  pounds,  but  the  difference  in 
cost  does  not  for  a moment  compare  with  the  difference  in 
amount. 

The  above  are  the  principal  elements  which  ordinarily  enter 
into  the  cost  of  service,  but  in  some  cases  there  are  other  ele- 
ments which  are  of  the  most  importance.  For  instance,  in  the 


24 


transportation  of  meat,  it  is  necessary  to  have  refrigerator  cars, 
for  which  a high  mileage  is  paid,  and  which  have  to  be  hauled 
one  way  empty.  The  same  is  true  of  transportation  of  live  ani- 
mals, and  of  some  commodities.  The  detention  of  cars  in 
loading  and  unloading,  as  in  the  case  of  hay,  is  an  important 
element.  In  fact,  there  is  probably  hardly  a commodity  which 
has  not  some  other  element  which  is  an  important  one  to  be 
considered  in  the  cost  of  transportation. 

2.  The  value  relative  to  bulk.  At  hearings  before  courts  and 
commissions,  traffic  men  often  say  that  value  cuts  no  figure  in 
making  a rate.  This  statement  is  not  true,  as  I have  indicated 
above.  If  it  were  true,  it  would  be  ignoring  an  important  ele- 
ment in  determining  the  distribution  of  the  burden  of  trans- 
portation. Commodities  valued  at  a thousand  dollars  per 
hundred  weight,  ought  to  and  do  have  a higher  rate  than  com- 
modities valued  at  one  dollar  per  hundred  pounds.  Why  any 
traffic  man  should  make  a statement  that  the  value  is  of  no 
importance  in  fixing  a rate  is  hard  to  conceive.  What  these 
men  mean  is,  probably,  that  where  the  differences  in  value  are 
not  marked,  no  difference  is  made  in  the  rate  ; that  no  higher 
charge  is  made  for  wheat  when  it  is  a dollar  a bushel  than  when 
fifty  cents  a bushel.  This,  of  course,  is  true,  and  with  only  six 
classifications,  it  would  be  absolutely  impossible  to  figure  this 
element  to  a nicety.  To  make  a classification  on  a strictly 
theoretical  basis  is  impracticable  and  the  only  results  which  we 
can  hope  for  are  approximate. 

3.  Incidence  of  the  burden.  Whether  or  not  a railroad  can 
be  compelled  to  make  a lower  rate  on  an  article  simply  because 
it  is  an  article  of  common  necessity  is  doubtful,  but  the  more 
clearly  railroads  recognize  their  public  service  functions,  the 
more  likely  they  are  to  give  consideration  to  this  element.  Peo- 
ple who  spend  a hundred  thousand  dollars  a year  on  their  living 
expenses  will  consume  less  flour  than  a man  earning  $1.25  a 
day,  and  the  burden  of  transportation  on  flour  ought  to  be  as  low 
as  possible.  The  same  is  true  of  meats.  There  is,  however,  no 
special  reason  why  a low  rate  should  be  made  upon  champagne. 


25 


Consideration,  therefore,  ought  to  be  paid,  it  is  respectfully  sub- 
mitted, to  the  persons  upon  whom  the  burdens  will  fall. 

4.  Competition  and  commercial  conditions.  The  foregoing  may 
be  regarded  as  the  basic  elements  entering  into  the  determina- 
tion of  rates,  or  the  fundamental  principles  of  a scientific  adjust- 
ment. But  often  the  scientific  theory  does  not  fit  the  facts,  or 
rather  the  theorist  has  predicated  his  proposition  upon  facts 
which  are  not  wholly  true,  or  he  has  left  out  some  important 
disturbing  factor.  In  the  fixing  of  rates  the  factors  which  play 
the  most  important  part  are  not  cost  of  transportation,  nor  the 
value  of  the  commodity,  nor  the  incidence  of  the  burden,  but 
competition  of  other  carriers  and  commercial  conditions. 

Competition  may  be  by  other  railroads,  by  water  carriers,  by 
electric  street  railways,  or  even  by  wagon  transportation,  as  in 
the  case  of  local  express  companies.  The  steam  railroad  may 
have  to  cut  its  rates  to  a point  which  pays  little  above  the  bare 
cost  of  transportation  in  order  to  get  any  business  at  all.  This 
is  true  generally  in  local  business  affected  by  electric  railway 
competition  and  by  local  expresses.  It  is  also  true  of  long  haul 
business  which  can  be  secured  often  only  by  making  the  rate 
less  than  that  to  which  the  railroad  is  equitably  entitled.  Long 
haul  and  very  short  haul  business  is  ordinarily  affected  by  com- 
petition, and  the  rates  are  fixed  regardless  of  almost  any  other 
factor.  Our  Supreme  Court  has  recognized  to  the  fullest  extent 
the  effect  of  competition  in  fixing  rates  lower  for  long  distance 
competitive  points  than  for  short  distance  non-competitive 
points.  The  Interstate  Commerce  Commission  in  its  decisions 
has  attempted  to  enforce  with  great  strictness  the  prohibition 
against  charging  a higher  rate  for  a shorter  haul  than  for  a 
longer  haul,  but  the  Supreme  Court  has  in  every  instance  over- 
ruled the  Commission  and  given  the  fullest  weight  to  competi- 
tive conditions  as  often  justifying  a less  rate  for  a greater 
service. 

The  skill  of  the  traffic  manager  depends,  first,  upon  his  hand- 
ling non-competitive  traffic  in  a manner  to  avoid  the  least  pos- 
sible friction  with  the  public ; secondly,  upon  his  ability  to 
secure  competitive  traffic  by  methods  which  do  not  unneces- 


2 6 


sarily  antagonize  his  competitors  or  connections ; and,  thirdly, 
by  studying  commercial  and  industrial  conditions,  so  as,  by  an 
adjustment  of  rates,  to  move  traffic  which  otherwise  would  not 
move.  The  importance  of  this  consideration  in  fixing  rates  has 
been  forcibly  stated  by  President  Lucius  Tuttle  of  the  Boston  & 
Maine  Railroad  in  his  testimony  before  the  Interstate  Commerce 
Commission  in  reference  to  import  and  domestic  rates.  Among 
other  things,  he  said  : 

“ It  is  a duty  of  transportation  companies  to  so  adjust  their 
freight  tariffs  that,  regardless  of  distance,  producers  and  con- 
sumers in  every  part  of  this  country  shall,  to  the  fullest  extent 
possible,  have  equal  access  to  the  markets  of  all  parts  of  this 
country  and  of  the  world  ; a result  wholly  impossible  of  attain- 
ment if  freight  rates  must  be  constructed  upon  the  scientific 
principle  of  tons  and  miles; — and  this  is  the  principle  that 
must  control  in  the  successful  conduct  of  all  import  as  well  as 
export  business.  . . . It  is  an  unalterable  law  of  trade  that 

transportation  tariffs  must  be  so  adjusted  that  salable  goods 
may  be  moved,  at  the  lowest  practical  cost,  to  the  most  distant 
as  well  as  the  nearby  markets,  and  obedience  to  this  law  is  the 
actuating  spirit  that  governs  in  the  making  of  freight  rates  by 
all  of  the  great  railroad  systems  and  trans-Atlantic  lines  of  the 
present  day.  . . . 

“If  all  freight  tariffs  could  be  constructed  upon  the  scientific 
principle  that  so  many  tons  of  each  kind  of  merchandise  shall, 
always  and  everywhere,  be  transported  just  so  many  miles  for 
just  so  much  money,  and  that  the  performance  of  each  item  of 
transportation  shall  always  bear  its  exact  proportion  of  cost,  and 
produce  its  equally  exact  proportion  of  profit,  the  making  of 
tariffs,  and  the  conduct  of  public  transportation  would  be 
greatly  simplified  ; but  the  first  result  would  be  the  restriction 
of  all  commercial  intercourse  within  narrow  circles  or  zones, 
beyond  the  average  width  of  which  it  would  be  impossible, 
except  in  the  most  limited  way,  to  carry  on  those  indispensable 
commercial  processes  of  purchase,  sale  and  interchange  of  the 
world’s  natural  and  manufactured  products,  which  are  inherently 
necessary  to  all  general  business  prosperity.” 

This  is  a lucid  exposition  of  the  bald  statement  so  often  made 
by  traffic  managers  that  rates  are  determined  by  what  the  traffic 
will  bear.  If  they  mean  all  that  the  traffic  will  bear  (and  this  is 
the  sense  in  which  they  are  understood  by  the  public),  they  are 


27 


maintaining  an  indefensible  position  ; but  if  they  mean  only 
what  the  traffic  will  bear  in  order  to  bring  about  a free  move- 
ment, which  is  at  once  beneficial  to  the  railroad  and  to  the 
public,  they  are  stating  one  of  the  most  important  principles  in 
the  fixing  of  rates. 

Any  rate  on  competitive  traffic  and  other  traffic,  which  would 
not  move  but  for  a low  rate,  and  which  yields  a profit  over  and 
above  the  bare  cost  of  hauling,  is  justifiable  from  the  point  of 
view  of  railroad  finance.  It  is  also  justifiable  from  the  point  of 
view  of  the  public,  although  this  conclusion  is  not  commonly 
agreed  to.  It  is  assumed  that  a greater  share  of  the  burden  of 
transportation  is  thrown  upon  non-competitive  and  local  traffic 
if  a very  low  rate  is  made  upon  other  traffic.  Any  traffic  which 
could  not  be  secured  but  for  the  low  rates  will  yield  to  the  rail- 
road an  increased  net  income,  assuming  of  course  that  the  rate 
pays  something  more  than  the  bare  cost  of  hauling.  This  gives 
a larger  net  fund  and  in  the  long  run  will  either  give  the  public 
the  benefit  of  improvements  or  non-competitive  traffic  the  ben- 
efit of  reduced  rates.  The  successful  traffic  man  is  the  one  who 
studies  commercial  conditions  and  fixes  his  rates  so  that  traffic 
is  moved  which  otherwise  would  not  move.  The  effect  of  the 
regulation  of  rates  by  law  is  to  deprive  railroads  of  such  traffic. 
The  legislation  pending  in  Congress  to  give  the  Interstate  Com- 
merce Commission  absolute  power  to  enforce  the  long  and  short 
haul  clause  is  most  dangerous  and  far-reaching  in  its  effects. 

This  discussion,  whether  or  not  profitable  in  arriving  at  some 
proper  understanding  whereby  to  test  the  reasonableness  of 
rates,  at  least  indicates  the  difficulties  not  only  of  fixing  a 
standard,  but  the  greater  and  almost  unsurmountable  difficulties 
in  putting  the  principles  in  practical  operation.  Ought  such  a 
herculean  task  to  be  entrusted  to  any  body  of  men  ? Ought  not 
the  railroads,  for  their  own  protection,  to  do  everything  in  their 
power  to  prevent  the  enactment  of  such  a calamitous  law  ? 
Ought  they  not  to  do  everything  in  their  power  to  appease  the 
public,  and  thus  put  an  end  to  the  agitation  ? They  can  do  this 
in  two  ways.  First,  by  recognizing  to  the  fullest  extent  their 


28 


public  obligations,  and  secondly,  by  treating  with  all  respect 
the  representatives  of  the  public  who  have  been  entrusted  with 
the  supervision  of  transportation  matters.  The  Interstate  Com- 
merce Commission,  even  with  its  limited  powers,  serves  a most 
salutary  purpose,  and  every  railroad  which  is  governed  by  proper 
principles  ought  to  be  thankful  that  there  exists  such  a body, 
which  can,  to  a considerable  extent,  control  its  more  or  less 
unscrupulous  competitors.  Railroad  managers  when  called  upon 
to  testify  before  that  body  ought  to  show  greater  frankness  and 
courtesy,  and  ought  to  recognize  the  fact  that  they  are  appearing 
before  the  representatives  of  the  people  from  whom  come  the 
great  powers  which  enable  the  owners  of  railroad  properties  to 
build  and  operate  them. 


